What is Capital Dividend Account?
The most common source of funds that give rise to a Capital Dividend Account (CDA) is the non-taxable portion of capital gains.
Although there are a few other components of CDA, we’ll keep that out of scope of this blog post.
Before we get into CDA, let’s touch on some basics. A “Capital Gain” is earned when you sell an asset (real estate, stocks, etc.) for more than what it cost you to buy it.
Canada Revenue Agency (CRA) generally deems only half of Capital Gains to be taxable. So, if you have a capital gain of $100, you pay taxes on only $50.
This concept is fairly simpler to understand when have a capital gain as an individual. Say, you sell a rental property and have a gain of $200,000. $100,000 of that gain will get added to your personal tax return and you will pay taxes on it to CRA. All the money was in your personal bank accounts to begin with.
In a corporation, however, all the money sits in the corporate bank accounts. This is where the concept of a CDA comes in. In our example above, when you realize a capital gain of $200,000, $100,000 will get added to taxable income for the corporation, the other tax-free $100,000 gets parked in the account called … you guessed it … Capital Dividend Account.
Now, this “account” is maintained purely for tax purposes, and is not a bank account or even an account on your Balance Sheet. This is tracked on your corporate tax return.
Why Are Capital Dividends Tax Free?
Just like half of the capital gain is tax free for an individual, a capital dividend account is a mechanism by which the shareholders of a corporation are able to withdraw that half of the capital gain that is not taxed.
It’s pretty simple if you think about it. It’s just that when there is a capital gain inside a corporation, you take out the tax free portion via a capital dividend account.
How To Withdraw Funds from Capital Dividend Account?
Don’t just withdraw funds from your corporation thinking that it’s tax free! There are specific steps to withdraw your CDA balance.
- Firstly, verify your Capital Dividend Account balance to confirm the amount available to withdraw. If you are not sure, you can either check on CRA My Business Account or complete the “Schedule 89 Request for Capital Dividend Account Balance Verification” and send to CRA
- Prepare a Board of Director’s Resolution to support the amount of capital dividends declared, the date of declaration and the date of payment
- Prepare the Form 2054 Election for a Capital Dividend Account Under Subsection 83(2) stating the amount being drawn from the CDA
- Move that specific amount of money from your corporate bank account to your personal bank account
- Record it as such in your accounting system
- Report it as such on your corporate tax return on Schedule 3
We understand that the above appear quite complex 😄 and you don’t want to go wrong. We strongly recommend you reach out to one of our accountants to discuss Capital Dividend Account for your corporation.
How To Report Capital Dividend Withdrawal On Personal Tax Return?
When a regular dividend is issued to a shareholder, the corporation needs to issue a T5 slip to the shareholder. However, when a CDA withdrawal is done, there is no issuance of a tax slip and is not reported on the shareholder’s personal tax return!
Deadline To File Capital Dividend Account Payment Election
An election to pay a capital dividend should be filed on Form T2054 by the earlier of:
- the day on which the dividend becomes payable; and
- the first day on which any part of the dividend is paid.
Capital Dividend Election Late Filing Penalty
If not filed by the deadline, the estimated late filing penalty for late filing is calculated as follows:
- the lesser of $41.67 or 1/12 of 1% of the amount of the dividend
multiplied by
- the number of months and part-months between the filing due date and the actual date the election is filed.
Conclusion
Have you had capital gains in your corporation in the past? Well, you may have accumulated a CDA balance and may not be aware of it!
Let’s chat and see how we can help you withdraw funds tax free from your corporation. 😀
